According to the Taylor Rule, if the output gap rises by 2% and inflation rises by 1%, then the federal funds rate should rise by
A) 2.0%.
B) 2.5%.
C) 3.0%.
D) 3.5%.

Question

Quizplus · Accepted Answer

The Taylor Rule formula suggests that for every 1% increase in inflation, the federal funds rate should increase by 1.5%, and for every 1% increase in the output gap, it should also increase by 0.5%. Therefore, with a 1% rise in inflation and a 2% rise in the output gap, the federal funds rate should increase by (1.5% * 1) + (0.5% * 2) = 2.5%.

According to the Taylor Rule, If the Output Gap Rises